Incentives

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					Incentives


 Incentives
  – Financial rewards paid to workers whose
    production exceeds a predetermined standard.
Individual Differences
 Law of individual differences
  – The fact that people differ in personality, abilities,
    values, and needs.
  – Different people react to different incentives in
    different ways.
  – Managers should be aware of employee needs and
    fine-tune the incentives offered to meets their
    needs.
  – Money is not the only motivator.
     Employee Preferences for Noncash Incentives




           *The survey polled a random nationwide sample of 1,004 American adults. Among those polled, 851 were working or retired
           Americans, whose responses represent the percentage cited in this release. The survey was conducted June 4–7, 1999, by
           Wirthlin Worldwide. The margin of error is ±3.1%. Responses total less than 100 because 4% responded “something else”.


Source: Darryl Hutson, “Shopping for Incentives,” Compensation and Benefits Review, March/April 2002, p. 76.
Types of Incentive Plans (cont’d)

Reasons to Link               Reasons not to link
 Motivation                   Can be misguiding
 Retention                    Time Consuming
 Productivity                 Union Position
 Cost Saving
 Organizational Objectives
Essentials of Sound Incentive Plans

 Guaranteed minimum wages
 Simple
 Equitable
 Economical
 Flexible
 Supported by workers and unions
 Motivating
 Prompt payment
Types of Incentive Plans
 Pay-for-performance plans
  – Variable pay (Organizational focus)
     • A team or group incentive plan that ties pay to some
       measure of the firm’s overall profitability.

  – Variable pay (Individual focus)
     • Any plan that ties pay to individual productivity or
       profitability, usually as one-time lump payments.
Types of Incentive Plans (cont’d)
 Pay-for-performance plans
  – Individual incentive/recognition programs
  – Sales compensation programs
  – Team/group-based variable pay programs
  – Organization wide incentive programs
  – Executive incentive compensation programs
Types of Incentive Plans (cont’d)
 Piece Rate Incentives
   – Taylor Plan
   – Standard Hour Plan

 Bonuses
 Skill Based Pay
   – Stair Step Model
   – Job-Point Accrual Model
   – Cross-Departmental Model

 Merit based
 Commissions
Individual Incentive Plans – Piece Rate
 Piece Rate Plans
  – The worker is paid a stipulated sum (called a piece
    rate) for each unit he or she produces.
  – Here speed is the basis of payment instead of time
  – Classified into 3 categories
     • Straight Piece Rate
     • Piece Rates with Guaranteed time rates
     • Differential Piece rates
Individual Incentive Plans – Piece rate

Merits                              Demerits
 Encourages efficient workers to    Delays beyond one's control
  produce more                        could affect workers earnings
                                      adversely
 Workers adopt better ways of
  getting things done, to earn       Beginners and slow learners
  more                                are left behind in the race
 Idle time is reduced to the        The focus on quantity would
  minimum                             affect quality
 Workers take every precaution      Workers        may        stretch
                                      themselves to unhealthy levels
  to avoid machine breakdowns.
                                      to     earn      more
 Cost of supervision is less
                                     Encourages rivalry between
                                      workers
 Piece Rate –                         Taylor’s differential Piece
 Merrick’s Differential
 Piece Rate System                    rate System - Features
Multiple rate system
a)   Workers producing below the
                                       Two Piece work rate – One
     std out not penalized by low
     piece rate
                                        lower and one higher
b)   Increase efficiency,
     Performance above standard
                                       Efficiency std is determined
     will be rewarded more than
     higher differential piece rate
                                         – Terms of time (or)
Three Schemes instead of 2               – Out based on time and motion
1)   Up to 83% of std output
     workers are paid at ordinary
                                           study
                                       Finish within std time or
     piece rate
2)   83% to 100% at 110% of

3)
     ordinary piece rate
     Above 100% at 112% of
                                        produce higher than std time
     ordinary piece rate
                                        – Higher piece rate
                      Features of the plan
Standard Hour Plan:     – Std time fixed for each job or
(Halsey Plan)             operation
Recognizes              – Time rate is guaranteed and worker
                          received guaranteed wages
individual                irrespective of whether he completes
                          work in allotted time or takes more
efficiency and            time
pays bonus on           – If job completed in less than Std
                          time, worker is paid 50% bonus of
basis of time             time saved at time rate in addition to
saved. Multiple           his normal time wage
                            • Total Earnings = Time Taken *
rate system                    Hourly rate plus Bonus
                            • Bonus = 50% of time saved
Std Hour Plan: Merits and Demerits
 Easy to follow and relatively      Workers may be encouraged to
  simple to operate                   rush through the work
 Guarantees minimum wage =          Does not provide adequate
  Security to employee                incentive to highly efficient
 Provides increasing benefit and     workmen as it involves sharing
  incentives to efficient workmen     of the benefit with employees
 Benefits from time saved is        Fixation of std is not easy
  equally shared b/w employer        Earnings are reduced at high
  and workman                         level of efficiency – so does not
 Emphasis on time saving rather      act as a sufficient incentive
  than larger output (So workers
  do not resist)
 System is based on time saved
  and not on output – Prevents
  over production
 Time saving reduces labour cost
  and overhead expense
Individual Incentive Plans - BONUS
 Bonus (Payment of Bonus Act 1965)
  – It is an incentive payment granted to a worker at
    the end of a particular year, in addition to one’s
    normal standard wage
  – One time Lump sum amount given for meeting
    performance goals
  – Can be based on Objective goal attainment or a
    subjective rating
Individual Incentive Plans (cont’d)
 Payment of Bonus Act 1965
  – Earnings of Rs.2500 pm (Basic + DA)
  – Minimum bonus of 8.33% has to be paid –(w.e.f
    25 Sep 75)
  – Paid within 8 months of Closing accounting Year
  – To claim Bonus, employee must have worked for
    30 days in that year
  – If in any year available Surplus exceeds the
    amount of Minimum bonus payable, employer
    shall pay higher bonus – subject to minimum of
    20% of Salary or Wages
                          Merit Pay
Individual Incentive       Any salary increase awarded to an
Plans - MERIT BASE          employee based on his or her
Merit pay options           performance is called merit pay.
•Annual lump-sum merit     It is like rewarding the best performers
raises that do not make     with the largest increases in pay as an
the raise part of an        appreciative gesture from the employer.
                            When high achievers are rewarded, they
employee’s base salary.
                            set the benchmarks for others to follow.
•Merit awards tied to       But the whole process of recognizing
both individual and         merit, measuring performance, picking
organizational              up the winners need to be followed
performance                 objectively.
                           A permanent cumulative salary increase
                            the firm awards to an individual
                            employee based on his or her individual
                            performance.
Individual Incentive Plans – Skill Based
 A reward system that pays employees on the
  basis of the work-related skills they possess
  rather than associated rewards with
  performance levels or seniority
  – Stair Step Model
  – Job-Point Accrual Model
  – Cross-Departmental Model
Individual Incentive Plans (cont’d)
 Recognition-based awards
  – Recognition has a positive impact on performance,
    either alone or in conjunction with financial
    rewards.
     • Combining financial rewards with nonfinancial ones
       produced performance improvement in service firms
       almost twice the effect of using each reward alone.
  – Day-to-day recognition from supervisors, peers,
    and team members is important.
Incentives for Salespeople - Commission
 Salary plan
  – Straight salaries
     • Best for: prospecting (finding new clients), account
       servicing, training customer’s sales-force, or participating
       in national and local trade shows.
 Commission plan
  – Pay is only a percentage of sales
     • Keeps sales costs proportionate to sales revenues.
     • May cause a neglect of non-selling duties.
     • Can create wide variation in salesperson’s income.
     • Likelihood of sales success may linked to external
       factors rather than to salesperson’s performance.
     • Can increase turnover of salespeople.
Incentives for Salespeople (Commission)
 Combination plan
  – Pay is a combination of salary and commissions,
    usually with a sizable salary component.
  – Plan gives salespeople a floor (safety net) to their
    earnings.
  – Salary component covers company-specified
    service activities.
  – Plans tend to become complicated, and
    misunderstandings can result.
Specialized Combination Plans
 Commission-plus-drawing-account plan
  – Commissions are paid but a draw on future
    earnings helps the salesperson to get through low
    sales periods.
 Commission-plus-bonus plan
  – Pay is mostly based on commissions.
  – Small bonuses are paid for directed activities like
    selling slow-moving items.
Setting Sales Quotas
 Whether to lock quotas in for a period of time?
 Have quotas been communicated quotas to the salesforce within one
  month of the start of the period?
 Does the salesforce know exactly how its quotas are set?
 Do you combine bottom-up information (like account forecasts) with
  top-down requirements (like the company business plan)?
 Do 60% to 70% of the salesforce generally hit their quota?
 Do high performers hit their targets consistently?
 Do low performers show improvement over time?
 Are quotas stable through the performance period?
 Are returns and debookings reasonably low?
 Has your firm generally avoided compensation-related lawsuits?
 Is 10% of the salesforce achieving higher performance than previously?
 Is 5% to 10% of the salesforce achieving below quota performance and
  receiving coaching?
Team/Group Variable Pay Incentive Plans
 Team or group incentive plan
  – A plan in which a production standard is set for a
    specific work group, and its members are paid
    incentives if the group exceeds the production
    standard.
  – All team members receive an incentive bonus
    payment when production or service standards are
    met or exceeded.
Team/Group Variable Pay Incentive Plans
 Methods in this category include
   – Profit Sharing Plan
       •   Current distribution Plan / Cash Plan
       •   Deferred payout Plan
       •   Combination Plan
       •   The Lincoln’s Incentive Systems
   – Gain Sharing
       •   Scanlon plan (Joseph Scanlon -1920’s)
       •   Rucker plan
       •   ImProShare (Mitchell Fein – 1974)
       •   Winning Share
   – Co partnership.
Organizationwide Variable Pay Plans
 Profit-sharing plans
  – Cash plans
     • Employees receive cash shares of the firm’s profits at
       regular intervals.
  – The Lincoln incentive system
     • Profits are distributed to employees based on their
       individual merit rating.
  – Deferred profit-sharing plans
     • A predetermined portion of profits is placed in each
       employee’s account under a trustee’s supervision.
Organizationwide Variable Pay Plans
(cont’d)
 Employee stock ownership plan (ESOP)
  – A corporation annually contributes its own stock—
    or cash (with a limit of 15% of compensation) to
    be used to purchase the stock—to a trust
    established for the employees.
  – The trust holds the stock in individual employee
    accounts and distributes it to employees upon
    separation from the firm if the employee has
    worked long enough to earn ownership of the
    stock.
Gainsharing Plans
 Gain-sharing
  – An incentive plan that engages many or all
    employees in a common effort to achieve a
    company’s productivity objectives.
  – Cost-savings gains are shared among employees
    and the company.
Implementing a Gainsharing Plan
1. Establish general plan objectives.
2. Choose specific performance measures.
3. Decide on a funding formula.
4. Decide on a method for dividing and distributing the
   employees’ share of the gains.
5. Choose the form of payment.
6. Decide how often to pay bonuses.
7. Develop the involvement system.
8. Implement the plan.
At-Risk Variable Pay Plans
 At-risk variable pay plans that put some
  portion of the employee’s weekly pay at risk.
  – If employees meet or exceed their goals, they
    earn incentives.
  – If they fail to meet their goals, they forgo some of
    the pay they would normally have earned.
Short-Term Incentives for Managers And
Executives
 Annual bonus
  – Plans that are designed to motivate short-term
    performance of managers and are tied to
    company profitability.
     • Eligibility basis: job level, base salary, and impact on
       profitability
     • Fund size basis : nondeductible formula (net income) or
       deductible formula (profitability)
     • Individual awards: personal performance/contribution
    Multiplier Approach to Determining
                Annual Bonus




Note: To determine the dollar amount of a manager’s award, multiply the
maximum possible (target) bonus by the appropriate factor in the matrix.
Long-Term Incentives for Managers And
Executives
 Stock option
  – The right to purchase a specific number of shares
    of company stock at a specific price during a
    specific period of time.
     • Nonqualified stock option
     • Indexed option
     • Premium priced option
  – Options have no value (go ―underwater‖) if the
    price of the stock drops below the option’s strike
    price (the option’s stock purchase price).
Long-Term Incentives for Managers And
Executives (cont’d)
 Other plans
  –   Key employee program
  –   Stock appreciation rights
  –   Performance achievement plan
  –   Restricted stock plans
  –   Phantom stock plans
 Performance plans
  – Plans whose payment or value is contingent on
    financial performance measured against objectives
    set at the start of a multi-year period.
Other Executive Incentives
 Golden parachutes
  – Payments companies make to departing
    executives in connection with a change in
    ownership or control of a company.
 Guaranteed loans to directors
  – Loans provided to buy company stock.
  – A highly risky and now frowned upon practice.
Creating an Executive Compensation Plan
 Define the strategic context for the executive
  compensation program.
 Shape each component of the package to focus the
  manager on achieve the firm’s strategic goals.
 Create a stock option plan to meet the needs of the
  executives and the company and its strategy.
 Check the executive compensation plan for
  compliance with all legal and regulatory requirements
  and for tax effectiveness.
 Install a process for reviewing and evaluating the
  executive compensation plan whenever a major
  business change occurs.
Why Incentive Plans Fail
 Performance pay can’t replace good management.
 You get what you pay for.
 “Pay is not a motivator.”
 Rewards punish.
 Rewards rupture relationships.
 Rewards can have unintended consequences.
 Rewards may undermine responsiveness.
 Rewards undermine intrinsic motivation.
Implementing Effective Incentive Plans
 Ask: Is effort clearly instrumental in obtaining the
  reward?
 Link the incentive with your strategy.
 Make sure effort and rewards are directly related.
 Make the plan easy for employees to understand.
 Set effective standards.
 View the standard as a contract with your employees.
 Get employees’ support for the plan.
 Use good measurement systems.
 Emphasize long-term as well as short-term success.
 Adopt a comprehensive, commitment-oriented
  approach.
HR Activities that Build Commitment
 Clarifying and communicating the goals and mission
  of the organization.
 Guaranteeing organizational justice.
 Creating a sense of community by emphasizing
  teamwork and encouraging employees to interact.
 Supporting employee development by emphasizing
  promotion from within, developmental activities, and
  career-enhancing activities.
 Generally committing to “people-first values.”
Express Auto Compensation System
                                Key Terms
law of individual differences       team or group incentive plan
expectancy                          profit-sharing plan
instrumentality                     employee stock ownership plan (ESOP)
valence                             Scanlon plan
variable pay                        gainsharing plan
piecework                           at-risk variable pay plans
straight piecework                  annual bonus
standard hour plan                  stock option
merit pay (merit raise)             golden parachutes